CutterAdvantEdge

Issue 69, July 2009

IT Cost Management: Preparing for 2010

Recession, depression, or recovery—the debate among economists continues, but there is consensus in the financial services world that in 2009, IT budgets have been squeezed across the board. Financial management firms have cut costs significantly—canceling major initiatives, reducing staff, adjusting compensation plans, and in some cases, resorting to “lights on” only cost structure. Even in tough economic climates, though, internal demands persist, with constant pressure to do more with less.

The questions asked most consistently are, Am I paying too much for IT? Am I receiving value for those costs? and How can I spend less? Answering those questions requires open communication channels across the organization that stimulate frank and direct conversations so that hard decisions can be made. It also requires more detailed internal reporting and metrics, and a higher degree of transparency. And it requires dedicating some IT staff to work on cost management.

The firms in the best position have devoted significant effort and discipline to managing the precarious balance of supply and demand by making cost management—not cost cutting—the priority. Cost management—analysis, prioritization, communication, and control—is an essential part of IT management as firms prepare for 2010.

Analyze Analyze

Leading firms know that before they can manage IT costs, they need to put considerable effort into analyzing the current IT spend. The knock–on effect is that cost breakdown and metrics must be more detailed, understandable, and transparent. The senior IT leadership team must be engaged and involved—relying solely on the Finance group to manage IT costs is just not good enough.

Paul Stevens, Managing Director and head of Cutter’s European practice, has helped a number of firms set up effective cost management practices. For firms to understand their spends, he recommends that they start by breaking down costs into classifications that align with business needs and the corporate culture. The benefit is twofold—achieving a detailed understanding of the business benefits, and utilizing corporate “language” to facilitate firm–wide communication. Consider the following when deciding which classifications are meaningful in your cost management effort:

Organic vs. Inorganic: people vs. “things,” such as licenses, contracts, hardware, and software
Fixed vs. Variable: capitalized and depreciated, contractually bound vs. changeable and flexible
Infrastructure vs. Applications
“Run the Business” vs. “Build the Business”
Geography/region
Shared Services vs. Single Line of Business

The classification effort results in a clearer understanding, not only of opportunities for cost containment but also of existing spending that should be maintained. More detailed examination of the actual costs across Lines of Business (LOBs) can even lead to changes in the business model itself, for example divesting of some investment products or distribution channels.

Where markets are struggling and budgets are shrinking, pressure to move processing to a shared service model is likely to increase. The success of these programs relies on consensus among the different LOBs on items such as functional priorities and allocation of costs. Wherever possible, costs should be aligned and tracked within the LOB P&L.

In addition to internal analysis, many firms find it valuable to compare their spending to the industry as a whole. AUM does not necessarily provide the best insights into relative IT spend, because of differing fee structures for different products. For better analysis results, compare IT spend as a percentage of revenues or expenses. It can also be revealing to break down these metrics by peer group—for example by firm size, by distribution (mutual fund vs. separate account) or by insurance vs. institutional asset management. These analyses can provide a foundation for deciding on the total spend across IT.

Prioritize

Most firms establish a steering committee to manage the process of allocating IT capital into the organization. To ensure that the priorities identified match the corporate growth vision and the business drivers within each LOB, the committee should represent a broad demographic, and should include:

Executive staff accountable for the allocation of funds
Business partners with P&L responsibility
IT staff responsible for delivery
Program management

The steering committee must also agree on high level drivers to support decisions and prioritization. For example, many firms have prioritized projects that help to mitigate operational risk, which in many cases is a supporting driver for data management initiatives. Another example might be to allocate funds according to the strategic value of an LOB. Areas not targeted for growth and profit could be funded for maintenance only. Lastly, many firms rely on ROI analysis to decide if individual projects will receive funding. However, the reality is that ROI is often calculated subjectively to support a particular point of view.

Transparency and Communication

With reductions in staff and growing internal demands, transparency and communication become increasingly important. Spending decisions need to be communicated at all levels to the appropriate audience. In good markets, the demand for more detailed metrics is minimal—the attitude is basically “just build it ASAP.” Allocation of cost into the business is secondary. In down markets, LOB owners need to understand how funds are distributed across all LOBs and the rationale behind the distribution. There is also more scrutiny of IT expenses, which requires more transparency into project details.

In his extensive experience, Stevens has found that using an IT service catalog can be useful because it defines and documents the nature, origin, and allocation methods of different IT costs. In fact, just the process of writing the catalog improves the transparency and understanding of IT costs within both the IT and business communities.

Internal customers need to fully understand what is being done, and at what cost and effort. This understanding leads to a more productive dialog about changing priorities and the consequent impact on existing mandates and projects. In fact, some IT groups have established dashboards and reporting metrics to track projects, costs, and business benefits on an ongoing basis.

Controls

It is unlikely that the IT department is solely to blame for any inefficiencies in IT spending. IT expenditure is often a direct result of business consumer behaviors—for example, duplicate data feeds, redundant Bloomberg or Reuters terminals, and unnecessary mobile devices such as Blackberrys. Moreover, the focus should be not on looking backward and assigning blame, but on how to make IT usage more efficient going forward. The success of many firms depends on an effective cost control program including renewed efforts in the following:

Project Tracking. Consider tighter oversight, with better awareness of possible runaway projects, and proactive management of overruns
Contract Management. Firms are dedicating more resources to this effort—specifically, they are looking for redundancies and more actively managing contract renegotiations.
Delegation of Smaller Costs into the Business. Smaller costs are most easily managed when they are accounted for close to the source. These might include technology administration costs like new computers or Blackberrys.

IT management should also consider the following relatively straight–forward IT expense health checks:

KPIs (Key Performance Indicators). Measuring expenditures, customer service, user support, staffing, and efficiency helps IT management understand current IT performance, develop goals and objectives, and set expectations about future performance with business managers. Imperfect KPIs are better than no KPIs, so get them in place and start using them.
Standardization vs. Variety Tests. As in other areas of business, variety in IT can create inefficiencies and limit the ability to change how business is done. Organizations will always need some variety to do business effectively, but the CIO needs to know exactly how varied the supporting IT platform is and what costs are generated by unnecessary variety. Variety can come in many flavors, including hardware, operating systems, DBMS, programming languages, and business applications. Over-duplication and unnecessary redundancy are major drivers of cost and operating risk, and they should be rooted out.
Portfolio Management. Just as an active investment manager can’t manage his or her portfolio without making critical choices as to the inclusion and exclusion of specific financial assets, an IT manager can’t perform his job without knowing what IT assets are included in the overall portfolio, and why. A standard, consistent process for deciding how to invest and disinvest in particular technologies means having a higher level of transparency, better control over costs, and a proper view of the total cost of ownership.
Physical Asset Inspection. Few IT managers ever personally inspect the IT assets they are responsible for. But inspections are easy to do, they provide a quick but reliable feel for how efficiently IT is being run, and they unearth examples of poor inventory management, inadequate space utilization, and unnecessary variety within the IT environment. Of course, having—and using—an asset register (both hardware and software) makes it much easier for the IT manager to understand the IT landscape, but this aspect of “management by walking around” provides opportunities to ask questions and solicit opinions from those who know the most about the assets—the people who manage them on a daily basis.

2010

So, what’s in store for 2010? Are firms planning more of the same or are they positioning for a slow recovery? In a recent meeting hosted by Cutter for many of the largest asset management firms, most CIOs indicated that in the coming year their budgets will either remain flat or decrease. Although revenues are expected to increase, IT spending will not see a parallel increase because it never decreased as sharply as revenues did in the first place. When cost cutting began in early 2009, most firms anticipated a market rebound and factored that into their cost cutting decisions.

We expect to see the high level drivers for capital to be the same in the coming year as they’ve been in 2009: risk, data, and cost containment. One addition will be the burden of infrastructure cost required to support new regulations, particularly in relation to systemic risk in the financial markets.

To be successful in putting your money in the right places, you need a structured and quantitative approach—not only to decide the proper allocations, but also to communicate why, to track progress, and to provide proper metrics.